Convergence Trading Hedge Funds

Arbitrage hedge funds

Convergence trading hedge funds, or arbitrage hedge funds try to discover situations where two related securities are mispriced relative to one another. They buy the relatively underpriced security and sell the relatively overpriced one. Profit is made when the price relationship gets back into “normal”. Arbitrage funds typically use sophisticated computer models, as computers are faster in discovering mispricing than human beings. The mispricing is often very small and high leverage is used.

Risks of convergence trading strategies

High leverage is the main risk with arbitrage strategies – when the mispricing doesn’t get back to “normal” and things go wrong, they sometimes go very wrong. Until this happens it is very difficult to detect the risks, as historical performance often looks outstanding from the risk-return perspective.

Common trading strategies of arbitrage funds

(In)famous example of convergence trading funds

An example of arbitrage funds was John Meriwether’s Long-Term Capital Management. The giant fund with Nobel Prize laureates Myron Scholes and Robert C. Merton in the team was first adored by the whole Wall Street and then in 1998 almost caused the whole Wall Street to collapse. It was bailed out by major banks under supervision of the Fed. LTCM was mostly trading fixed income spreads.

A great book was written about the LTCM story. Its value is mainly in the behind the scene insight – it illustrates well how the different personalities and relationships within the fund management team contributed to the eventual excessive risk taking and collapse. See .


Related pages


option greeks deltaoptions yahoo financeexponential smoothing calculatorwhat is kurtosis and skewness in statisticscalculators with negativesonline black scholes option calculatorquote vxxstandard deviation of a sample calculatorsma vs emasample skewness formulaexcel formula for variancehow to compute the sample variancewhat is skewness in statisticsrho optionwhat is an option straddleoptions on vix futureshow to plot break even graph in excelyahoo quotes csvgeometric average excelexcel formula explanationsexcel formula calculatorkurtosis definition and exampleatr average true rangestock rsi meaningintrinsic value calculator excelinferential statistics calculatorvix futures quotecalculate median in excelworking out standard deviation on excelexp function excelhow to calculate standard deviation using a calculatorhow to change background color in notepadshortcut formula for variancethe pricing of options and corporate liabilitieshow to calculate sample standard deviation in excelaapl historynormal kurtosiss&p inverse etfsharpe ratio formula exampleannualizing returnsstock market rsiarithmetic mean formula for grouped datavariance calculation in excelvix pricescalculate sample mean in excelfx formula in excels&p 500 spreadsheetwhat is squared deviationform 13f-hrstandard deviation spreadsheetcfe vixwilders moving averagesharpe theorycboe indicessharpe ratio formula excelwhat is variance in statsvalue stock indexkurtosis measurehow to calculate annual rate of return in excelinvest in vixcalculating covariance in excelhow to calculate arithmetic average returniron butterfly strategyweighted percentage calculatorubs e tracsblack scholes pricing model calculatorblack scholes theoryvariance calculation in exceloption pricing calculator black scholescalculating standard deviation calculatorannualized daily return